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Inflation surge puts Fed in a quandary

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As of June, consumer prices have risen by 4.9 percent in the past year, the highest 12-month inflation rate since 1991.

"The troubling part was not so much the headline [inflation number]," says Jay Bryson, an economist at Wachovia Corp. in Charlotte, N.C.

While the overall rate is what burdens consumers, the bigger worry for Fed policymakers was a sign that higher oil prices are feeding into a more generalized rise in prices.

The so-called core rate of inflation, with food and energy prices stripped out, rose 0.3 percent for the month. Rising oil prices have been a global phenomenon, driven largely by demand in emerging markets, that the Fed has little control over. But if last month's rise in the core rate persists, it would be a sign of a widening inflation problem, Mr. Bryson says.

"You're looking at a 3.5 percent [annual] core inflation rate, which is way too high for the Fed's liking," he says.

So far, prices for one of the key costs businesses face – labor – show little sign of spiraling out of control.

Because wages aren't rising very fast, that also limits the ability of businesses to pass along price hikes.

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